(FSB Magazine) -- Marilyn Landis was not sick. The owner of Basic Business Concepts, a financial outsourcing company in Pittsburgh, says that last year neither she nor the worker covered by her business's health insurance plan suffer any of the preexisting conditions so feared by insurers. Yet, Landis says, her premiums shot to $1,700 from $900 a month. The problem? Landis had turned 53, an age that apparently worried her insurers. "Nothing changed in my health," Landis says. "I couldn't believe it." (In most states it is not illegal for insurers to charge different rates based on age.)

It's a familiar problem for small businesses: If insurers sense the smallest risk that even one employee might run up health-care charges, premiums skyrocket.

is in the process of "reinventing" its HealthCare Group program, a state-sponsored option for businesses that have fewer than 50 employees. This year the program has added several new benefit (and premium) options, allowing employers more low-cost choices. Enrollment in August was more than 22,000.
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offers a purchasing pool for very small businesses that previously had not offered coverage. An employee has to pay at least half of the premium; the state then contributes up to half of the balance. About 280 businesses have enrolled since the program was instituted in January.
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passed a health-care package in May that provides discounts on premiums for businesses whose employees enroll in health-promotion and disease-prevention programs.
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A 2003 report issued by the Healthcare Leadership Council quoted an insurer who said that premiums for an eight-person business would increase by 37.5 percent if just one worker developed diabetes. And small companies are disproportionately affected. Some 26 percent of workers employed by businesses with fewer than 200 employees saw their premiums go up by more than 15 percent last year, compared with 17 percent of all covered workers, according to a study by the Kaiser Family Fund and the Health Research and Education Trust.

Policymakers have begun examining a new tactic for coping with that instability. Known as "reinsurance," it provides a safety net for insurers, calling for the federal or state governments to bear the brunt of the most expensive health-care costs. Senators Dick Durbin (D-Illinois) and Blanche Lincoln (D-Arkansas) have proposed a reinsurance provision as part of legislation to help small businesses obtain health care.

Reinsurance would essentially provide catastrophic coverage for all small-business employees and dependents -- a government-sponsored plan could cover 90 percent of all annual health expenditures above $50,000, for instance. It would not be cheap; it could cost as much as $20 billion a year to provide reinsurance to the small-business and individual markets. But consider that this year the federal government will forgo at least $200 billion in revenues because of tax-code subsidization of employer-sponsored insurance -- around $1,200 per person. Assuming that there are currently 20 million uninsured people who would benefit from reinsurance, the program would cost $1,000 or less per person per year. That's comparable to the subsidy that almost all big-business employees and their dependents already receive.

And the resulting savings for small businesses could be much larger. Reinsurance would help solve many of the problems that have caused health insurance to skyrocket in recent years. First, it would reduce the practice of risk assessment. Insurers today spend millions of dollars trying to determine which businesses carry the greatest risk of using high-cost medical care in the next year, and then charging them -- and their workers -- unaffordably high premiums. (Small businesses are particularly vulnerable to risk assessment; since fewer small firms offer insurance, providers worry that the ones that do are more likely to have sick employees, and are therefore more wary of them.) But if most of that risk were shifted to the reinsurance program, the incentive for insurers to spend so much money on expensive risk-assessment procedures would be sharply reduced. Translation: The drop in insurers' costs would lead to lower premiums.

Lower premiums will help solve another intractable health-care problem: adverse selection, a catch-22 in which the healthiest and youngest employees, turned off by the high cost of premiums, choose not to buy it. Consequently, the plan participants who remain don't have their able-bodied colleagues to offset their costs, and premiums rise. That drives out more healthy patients, and the cycle continues. But with reinsurance, the opposite would occur. Those initial discounts would bring healthier patients back into the system, lowering premiums further and bringing in still more healthy patients.

Those are not just hypothetical results: Healthy New York, a state reinsurance program that services insurers for low-income individuals, sole proprietors, and low-income workers in small firms, has covered more than 250,000 participants since it was created in 2001. And premiums are 30% to 50% cheaper than those for comparable policies sold outside the program.

The reinsurance approach has its critics. Massachusetts's recent health-care legislation included a reinsurance provision, but it was dropped. "The sense was that the cost was far too much," says John McDonough, executive director of Health Care for All, a nonprofit seeking universal health care, "especially because the money would have to be committed every year."

In the long run, however, reinsurance promises to be a bargain, allowing universally affordable health care at a relatively low cost to the taxpayer. And more and more states are getting wise to the approach. Vermont recently passed a health-insurance reform package that included reinsurance, and policymakers in New Jersey and several other states have expressed interest as well.

FSB routinely examines novel proposals to help solve the health-care quandary for small business (see "Unfair Burden," May). This column was written by an economist at Harvard's School of Public Health, whose book "Reinsuring Health" was published in June by the Russell Sage Foundation. Additional reporting was provided by Matthew McKnight.

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